Believe it or not... the world's largest market is not the stock market.
At the end of 2018, the total value of all publicly traded stocks in the world was around $80 trillion... But today, the bond market is even bigger.
According to Bloomberg, the global bond market sits at more than $95 trillion. That's almost 20% larger than the stock market.
If you're not familiar, a bond is a type of loan.
Instead of borrowing from a bank, a company or government uses bonds to borrow money from investors. In exchange, investors receive annual or semiannual interest payments at a predetermined rate (the "coupon rate").
A bond has an expiration date (the "maturity date"), at which time the full face value (or "par value") of the bond must be returned. These payments are legal obligations. The borrower must pay or declare bankruptcy... period.
For years, bonds would trade only in one way:
- An investor first filled out paperwork to establish a trading relationship with a few broker-dealers.
- The investor called these brokers and asked them to "make a market" in a bond – that is, to provide both a buy ("bid") and sell ("ask") price so as not to tip one's hand.
- If the broker did not have the bond in its own inventory, the investor waited for the broker to call other clients to find willing sellers and buyers for the other side of the trade.
- Then, if the broker could find the bond, it eventually called the investor back and gave bid prices that included healthy profits built in (sometimes as much as 5% of the price of the bond).
But that's all changed now, thanks to advances in modern technology. And today's company is at the forefront of this revolution...
In 2000, Rick McVey launched an online trading platform. He raised $24 million in capital from JPMorgan and other financial giants. Four years later, his company raised another $60 million in its initial public offering ("IPO").
The company was growing fast, but it was still a small player in the bond-trading market.
Today, McVey's company, MarketAxess (Nasdaq: MKTX), has grown into the leading electronic platform for trading corporate bonds. It holds more than 22% of the entire bond-trading market and more than 85% of the electronic bond-trading market.
The company takes a small fee for each transaction on its network. These fees average 0.02% of the value of the transaction. This may not seem like much... But in the $100 trillion bond market, the fees add up quickly.
MarketAxess' platform allows for two types of trades: Request for Quote ("RFQ") and Open Trading.
RFQ most closely resembles the traditional voice-based trading process. RFQ combines the familiarity and benefits of existing offline investor-dealer relationships with the efficiency and transparency of an electronic trading platform. Here's how it works:
A client submits inquiries to a list of dealers it selects. These dealers then access the trade details and choose whether to engage in negotiations.
But Open Trading is even better... It's MarketAxess' proprietary, branded platform.
Open Trading is an "all to all" platform. This means the pool of potential trading partners for an investor is all of the industry players. This includes other institutional investors, exchange-traded fund market makers, credit hedge funds, and broker-dealers.
The best part is, it cuts out the middleman completely. Through Open Trading, investors can trade directly with one another with no "wholesaler" required.
This sounds so basic, especially when compared with stock trading via an exchange that has been around for centuries.
But bond trading never worked this way... until MarketAxess made it possible.
And MarketAxess is not standing still. The company continues to innovate and improve its platforms. It regularly adds new functionality such as bulletin-board posting, order-blotter matching, and anonymous block-trade negotiations, to name a few.
The business is impressive.
It has a lot in common with the great businesses of card-network companies Visa (V) and Mastercard (MA). Like Visa, MKTX is enabling and benefiting from a transition to electronic transactions. And like Visa, it facilitates huge lending markets without taking any credit risk itself.
The business also has similarities with social media giant Facebook (FB) – it benefits from the "network effect."
You see, it gets better as it gets bigger.
The more investors who use MarketAxess, the greater the volume of trades on its platform. And the greater the volume of trades, the more investors join and improve the business. These businesses are hard to get started... But once they do, they're hard to stop. Growth begets more growth. Momentum increases. And winners tend to take all – or at least take most.
And the growth is easy to see. In its fiscal first quarter, MarketAxess reported trading volume of $526.2 billion. That's an increase of 13% from the same quarter in 2018.
If MarketAxess' business is impressive, then the action in MKTX shares is nothing short of incredible.
Since the S&P 500 bottomed on Christmas Eve, it has rebounded by more than 25%. Over the same period, MKTX has skyrocketed more than 70%. The surge in shares has boosted MarketAxess so far that it was just included in the S&P 500 Index.
This means that it's now one of the 500 largest publicly traded companies in the U.S. And it means that any fund that tracks the S&P 500 will have to buy MarketAxess' shares.
MarketAxess is a leader in the electric bond-trading revolution. Its fantastic business model and recent inclusion in the S&P 500 should send shares even higher.
Sometimes investing is simple.